Wednesday, 30 May 2018

This post is just an
extension of a recent tweet
from Chris Dillow. I think it is worth writing more about it because
it reflects on an issue that is widely misunderstood, by some on both
the left and the right. Here is the share of employees compensation
and corporate profits in total income since 1948. Note that
everything below is about the UK experience: the US is different.

I have gone back to
1948 to show that the wage share can change, and has fallen from the
1950s until the end of the century, from 60% to 50%. But that has not
been accompanied by a rise in the profit share, which has stayed
pretty close to 20%. The missing pieces, that are the counterpart to the fall in the labour share over this period, are income going to indirect
taxes, self employment and unincorporated businesses.

The key point I want
to make is that neither the wage share or the profits share has
changed over the last 15 years. This busts two myths that you will
often see.

Myth 1
Immigration has kept real wages low.

There was a large
increase in non-EU immigration at the end of the 1990s: if anything
the wage share increased at the same time. The second large increase
in immigration, this time from the EU, was from 2004, and there was
no noticeable impact on the labour share. Immigration may have been
depressing nominal wages, but those lower nominal wages were allowing
lower output prices, leaving real wages unchanged. This is consistent
with the econometric evidence that immigration has no significant
impact on real wages.

This evidence is
often dismissed in two ways. The first is that it does not correspond
to workers 'lived experience'. But that experience reflects either the
impact of immigration on their own nominal wage, or falls in real
wages which reflect the lack of productivity growth and sterling’s
depreciation. It is just possible that immigration might have
discouraged firms from investing in higher productivity techniques,
but it is rather more likely that immigration has allowed firms to
produce in the UK who would otherwise have produced abroad. For other
reasons why intuition on immigration may be misleading see here.

The second way that
some people argue that there ‘must be’ a link between real wages
and immigration is to invoke simple supply and demand. That is just
fallacious: immigration shifts the labour supply curve but it also
shifts the demand curve. A slightly more sophisticated argument is
that the demand curve does not fully shift to compensate for greater
supply immediately after an increase in immigration because it takes
time to invest, but if that was the case we would see a temporary
fall in real wages and a rise in the profit share following periods
of immigration, and we do not.

Myth 2: Real
wages have fallen because labour is now weak compared to employers.

Since the Global
Finance Crisis (GFC) and subsequent recession, nominal wage growth
may be slow because the labour market is weak, but the data shows that employers are not
taking advantage of this to increase the profit share. Low wages are
being passed on into lower prices.

There are two main
reasons
why real wages are currently low: almost non-existent productivity
growth since the crisis and the depreciation in sterling which has raised the cost of
imports and therefore consumer prices.

Note that I am not
at all saying that the labour market is not as weak as it appears. In
many areas conditions of employment seem to have deteriorated since
the GFC. What I am saying is that real wages depend on prices as well
as nominal wages, and in the UK at least there seems to be sufficient
pressure on firms to pass on low wages into low prices, leaving the
relationship between real wages and productivity unchanged.

It is also important
to point out that the wage share is different from median wages. As
the study by Pessoa and Van Reenen I examine here
shows, median wages from 1972 to 2010 declined relative to the average
compensation because of rising non-wage benefits and rising
inequality. A good part of this rising inequality reflects incomes of the top few percent.

It is often
difficult to convince those on the left that weakening labour power
over wages can be a good thing, if lower nominal wages
are passed on to lower prices. It can be a good thing because it
allows the central bank to raise demand and therefore output by more
than they otherwise could while keeping inflation stable. It reduces
the sustainable unemployment rate: the NAIRU. Furthermore lower wages
are more likely to be fully passed on into lower prices if the goods
market is highly competitive, and that is more likely to happen if
the economy is open to overseas trade.

Saturday, 26 May 2018

In my last post I
used the example of Brexit to show that politicians, even when their
ideas are seen as seriously harmful by most experts, will still find
policy entrepreneurs to give them enough information to sound
knowledgeable when they appear on the media. But this may be an
extreme example of a more general phenomenon, which I would describe
as the breakdown of the way expertise is utilised by government: a
breakdown of what I call the Knowledge Transmission Mechanism.

It is nothing new,
of course. The first example I ever had experience of was as an
economist at the Treasury when Mrs. Thatcher became Prime Minister.
As far as her new Treasury team were concerned, most Treasury civil
servants were not ‘one of us’, and they had little time for their
advice. When Treasury economists predicted a recession in 1980, they
were ignored. (There was a recession.) As the young Treasury
economist I was then, the contrast with the ever curious Denis Healey was quite
shocking.

Even back then,
Conservative ministers tended to seek advice from City economists
rather than academic economists, which may be one reason why the
record of Conservative Chancellors in running the economy from
Thatcher onward is so much worse
than the 13 years of Labour government. Part of the role of right
wing think tanks is to hide that fact, which they do very
successfully. It is why the 364 academic economists in 1981 who
attacked Conservative macro policy are generally thought to have been
wrong, when in reality they were broadly right. This was perhaps the
beginning of the Conservative party’s disdain of experts who
interfered with their ideological projects.

The use of partisan
think tanks and experts by the political right is now well
established in both the US and UK. In contrast the last Labour
government was much more open in its use of at least economic advice,
but its biggest mistake was in ignoring expert advice on Iraq. There
may be some on the left that would like to replicate the way the
political right works for Labour under its new leadership, by
suggesting for example that conventional economists are inherently
hostile to its policies.

But this is not how
the Knowledge Transmission Mechanism (KTM) is supposed to work. Good
ideas and good evidence do not have to come with a left, right or
centre political label attached. When I have advised political
parties or governments or economic institutions I have not given them
advice which is only appropriate if the recipient wears a particular
political colour. A good understanding of how the economy works does
not require a particular political allegiance.

I wonder how much
the trend towards the delegation of decisions to independent bodies,
and suggestions to do more of that, is a reaction to this growing
politicisation of expert advice. I was listening to an interesting
Resolution Foundation podcast
based on a new book
from Paul Tucker, which was all about the conditions for successful
delegation. One of the participants, Kate Barker, gave an example
where she thought proposals for delegation went too far: the LSE’s
Growth Commission.

I turned quickly to
the Growth Commission’s 2017 report
to see what Kate had in mind. I suspect it could be this.

“The ultimate
objective is a long term industrial strategy that is isolated from
political cycles. An independent body should strive to overcome
fragmentation across different levels of government.”

Now there may be a
case for delegating the implementation of an industrial body
to an independent body, just as the implementation of monetary policy
is delegated to the Bank in the UK. Just as Chancellors may alter the
timing of interest rate changes for political ends, ministers may
also skew the distribution of industrial policy to favour some
constituencies over others. To a considerable extent this is what the
Growth Commission proposes. But I suspect saying that you want
industrial policy “isolated from political cycles” portrays an
underlying deep discontent with how the Knowledge Transmission
Mechanism has broken down.

This is not a post
about the merits or otherwise of delegation (on which Paul Tucker has
sensible things to say), but an attempt to describe one reason why
experts or civil servants may be increasingly inclined to suggest
delegation. Put simply, if politicians base policy on an ideology
that requires shutting expertise out, independent bodies that let
expertise back in become increasingly attractive.

Thursday, 24 May 2018

Brexiters typically
sound convincing if you know little about what they are talking
about. Ian Dunt takes
a typical example from Rees-Mogg (still favourite to be next
Conservative leader). Rees-Mogg asserts, with absolute certainty,
that a House of Lords committee have missed a crucial aspect of trade
law related to WTO rules. Trade experts spend some time scratching
their heads wondering what on earth he is talking about. They finally
work out where the idea comes from, and why it has next to zero
applicability to Brexit. (See also Jim
Corneliushere.)

As Dunt points out,
nonsense of this kind is effective. Because broadcasters often fail
to match Brexiters with trade experts, they get away with their
nonsense. By the time the nonsense is revealed as such, and enough
people know why it is nonsense. the discussion has moved on and new
nonsense appears. The fantasy
that is Brexit remains intact at the level of public discourse.

Politicians like
Rees-Mogg are not able to generate this nonsense themselves. How
could they when they seem to spend most of their lives going from one
broadcast studio to the next. Because this nonsense normally has some
tenuous connection to reality, it has to come from someone with some
knowledge of international trade and trade agreements. Welcome to the
policy entrepreneur.

The term policy
entrepreneur comes I believe from Paul Krugman’s first book
from 1995, Peddling Prosperity, which unfortunately remains as
relevant as ever. The book begins with the Laffer curve and the
economists - including Laffer - who promoted the idea that cutting
taxes would raise revenue. It is a typical piece of nonsense. It
takes the reality that if taxes were 100% lots of people would stop
working, and mutates this into the idea that taxes are already so
high that cutting them would encourage more growth such that tax
revenue will rise. It is typical political bullshit:
giving an imagined respectable gloss on something that too many
Republicans just wish were true.

But in the latter
part of Peddling Prosperity things got personal, as Krugman describes
how different policy entrepreneurs took some of Krugman’s own
research and used it in a way Krugman would not to lobby President
Clinton for trade protection. Economic theory suggests that if a
profitable opportunity arises and there are no barriers to entry
people will exploit that opportunity. I think the policy entrepreneur
is a good example of that happening. Some politicians want to pursue
a policy but want some kind of rationalisation for it, and the policy
entrepreneur steps up with some nonsense erroneously derived from
economics or some other discipline to provide that veneer of
respectability.

Policy entrepreneurs
can be academics: in the UK the most obvious example many would point
to is Patrick Minford. But they can just be good lobbyists, who put
themselves in the right place at the right time. In the case of
Brexit, the policy entrepreneurs from whom the Brexiters get most of
their information are in the Legatum Institute. BuzzFeed has a
very good profile
of their until recently director of economic policy, Shanker Singham.
It is worth quoting from it.

“BuzzFeed News
spoke to multiple economists, policy wonks, Conservative advisers,
politicians, and journalists who said they’re baffled that he’s
become so prominent in the Brexit debate. They say his standing in
the trade world has been overblown. They don’t dispute that he
knows the subject, but most hadn’t heard of him before he emerged
at Legatum. They find it exasperating that he’s been portrayed in
the UK as a vastly experienced trade negotiator, as if he were one of
the decision-makers in the room when the world’s biggest trade
agreements were hammered out. He wasn’t that close to the action,
they say.”

But of course
someone with more experience or more knowledge could not take
Singham’s place, because they would not be the true believer that
Brexiters require. When you have faith as the Brexiters have, you do
not seek real knowledge, but just enough facts to sound good and
thereby promote the cause.

Policy
entrepreneurs, whether they are seeing a profit opportunity or really
are true believers, are a symptom that what I call
the knowledge transmission mechanism has broken down. As Krugman’s
book indicates, Brexit is not the first time that policy
entrepreneurs have helped politicians enact destructive policies.
Here I argue
that that the knowledge transmission also broke down when it came to
austerity. (Paper here.) It is possible for policymakers to use intermediaries like
civil servants to find the best research and use it - it has
happened
in the past - but today it seems like the exception rather than the
rule.

Tuesday, 22 May 2018

Reports by select committees of MPs after some scandal should be
treated with care. There is nothing MPs like more than to take the moral
high ground and heap blame on others in front of TV cameras, whether their victims deserve it or not.
But in the case of the collapse of Carillion, their condemnation
of the senior management, the board and the auditor seem fully
justified. When the Institute of Directors say
that “effective governance was lacking at Carillion” you know
things were very wrong.

Think of the company
as a ship. The captain has steered the ship too close to the rocks,
and seeing the impending disaster has flown off in the ship’s
helicopter and with all the cash he could find. After the boat hit
the rocks no lives were lost, but many of the passengers had a
terrifying ordeal in the water and many lost possessions, and the
crew lost their jobs. Now if this had happened to a real ship you
would expect the captain to be in jail stripped of any ill gotten
gains. But because this ship is a corporation its captains are free
and keep all their salary and bonuses. The Board and auditors which
should have done something to correct the ship’s disastrous course also suffer no loss.

To say this reflects
everything that is wrong with neoliberalism is I think too imprecise.
[1] I also think focusing on the fact that Carillion was a company
built around public sector contracts misses the point. (I discussed
this aspect in an earlier post.)
To say, as the MPs do, that the collapse of Carillion is the result
of recklessness, hubris and greed tells us nothing, because many
people are bound to be those things if the system provides no incentives for better behaviour. The problem is that the senior
managers, the auditors and the Board are not in prison and have not
even suffered any financial loss.

In theory the incentive for better behaviour is that everyone except the auditors have lost their job and are unlikely to get another. But executive
salaries are now so high that this penalty, if it is applied, is just
not strong enough. The former chief executive, who resigned in 2017,
earned £1.5m in 2016. (A third of that was in the form of a bonus
that could have been clawed back until the remuneration committee
made that more difficult in 2016.) Few people would think that never
being able to captain a ship again was a sufficient disincentive for
the imaginary captain who steered his boat too close to the rocks.

The idea from Econ
101 that CEOs are paid their marginal product is now laughable. Their
pay is so high in part because it is set by cosy remuneration
committees, but mainly because CEOs have considerable bargaining power
over the firm that employs them. This power is intrinsic, so greater
oversight by shareholders will do little to change this situation. I
wrote some time back that perhaps economists should think about the
benefits of a maximum wage, or a return to punitive taxation on CEO
type salaries and bonuses. [2] That idea normally provokes shock and
horror, but have economists come up with a better idea to offset this
market failure at the centre of modern corporations?

As far as auditors
are concerned, there is much talk of breaking up the big four. The idea is that in a more competitive auditor environment there would be more opportunity for firms to establish a reputation, and for those that failed to do so to go out of business. I suspect the issues go deeper than that. It would be interesting to know if existing auditors after a high profile failure like Carillion lost market share. It may be that shareholders have insufficient power to ensure the selection of auditors useful for them. If that is the case, there may be a case for giving regulators greater power to act on shareholders behalf.

Ultimately corporate
failures are a reflection of how companies are governed. I tend to
agree with Will Hutton that the model where the shareholder and more
particularly the share price are king is deeply flawed. The term
financialisation is a bit like neoliberalism in that it is used by
different people to mean different things, but I think it does
describe how corporate culture has changed in the UK and US (at
least) over the last few decades. We must never forget that the
largest disaster in recent times reflecting a rotten corporate
culture was the Global Financial Crisis.

“My contention is
that limited-liability companies, having certain formal privileges
and status, should not be the private playthings of transient owners
interested only in their own immediate self-enrichment, without any
concern for how their profits are made. They should be organisational
structures that allow humanity to innovate and then produce to meet
the great challenges of any era: in this context profits are made by
delivering a noble, moral business purpose, integral to the wider
legitimacy of the enterprise.”

The big challenge is
to work out the most efficient way of achieving that goal.

[1] What I think is
fair to say is that a neoliberal culture is why attempts to address
these problems have been ignored for so long. Ed Miliband talked
about predatory corporate practices, and the overwhelming reaction
was that this made him ‘anti-business’ and ‘too left wing’.

[2] The idea
currently being embraced by politicians is to publish firm pay
ratios: the ratio of the CEO’s pay to the average employee in that firm. You
could cap that as a policy, although it is not obvious to me why
CEO’s in firms (in sectors like finance) that have highly paid
employees should be allowed to expropriate more from the firm than those with lowly
paid employees. However as this is not my area, I am happy to see
analysis on the optimal way of removing this distortion within
corporations.

Sunday, 20 May 2018

I’m all for
economists improving their communications skills, and there are some
good initiatives currently around. But all that is as nothing when
politicians and the media keep promoting bad economics.

One of the most
obvious is the focus on jobs rather than output. There are some
circumstances were this makes sense. The most obvious is a recession,
where unemployment is high and the focus of policy should be getting
unemployment down. Another is when thinking about the geographical distribution of employment. But at times when unemployment is low, the focus
on jobs rather than output can be very misleading for one simple
reason. We can easily create jobs by having technological regress.

What has happened in
the UK since a year after austerity was imposed is that productivity,
measured in terms of output per hour worked or output per worker, has
hardly increased. Productivity normally rises in a recovery, and it
began to until the middle of 2011, but we have seen almost no growth
since then. That is terrible news, because it means that there has
been no increase in average living standards: add in the Brexit
depreciation and real wages have fallen substantially.

Yet politicians and
newspapers continue to talk up employment growth as if it was a huge
achievement. Here is the Mail from a few days ago.

So many times I have
heard government ministers counter criticisms over output growth
performance by talking up employment growth, and I do not remember a
single occasion where they have been pulled up with the obvious
retort ‘so you are happy with stagnant productivity and falling
real wages then’. [1] Because strong employment growth coupled with
weak output growth means something is very wrong with productivity,
and we cannot have sustained growth in real wages and living
standards without productivity growth.

You might expect
politicians to try and get away with nonsense economics if they can,
and you would certainly expect right wing papers to turn reality
upside down in an effort to protect their precious Brexit. That is
why it is so important that political journalists working for the
broadcast media know some basic economics, and are prepared to use it
to call out the distortion of some politicians. Until they do, basic
misunderstandings about simple economic relationships will persist.

[1] A BBC journalist
did try once, and got into trouble as a result, as I relate here.

Wednesday, 16 May 2018

As soon as the EU
decided, quite rightly, to support Ireland in rejecting any deal that
resulted in placing infrastructure at the Irish border, the idea of a
Free Trade Agreement between the EU and the UK was dead. It became
inevitable that the UK would stay in the Customs Union (CU) and the
Single Market (SM). The two possible alternatives, which is that the
UK would go ahead and impose a hard border and forsake any deal with
the EU, or that a border would be created in the Irish Sea, would not
be approved by a majority in parliament. If the UK had a strong
bargaining position, it could perhaps persuade the EU to compromise
over how much of the Single Market it needed to be part of (the
Jersey option), but according
to Sam Lowe who gave that option its name the “EU
will not contemplate the backstop applying to the whole UK”. The UK
gave up any bargaining strength it had when it triggered Article 50.

Yet
neither leader of our two main political parties allow themselves to
see this inevitable implication of the Irish border. Delusion is at
its most extreme in the case of Theresa May, who still thinks it is
possible to conclude a deal with the EU that would keep the Brexiters
in her party on board by appeasing them at every step. So we have the
ludicrous situation where the UK cabinet is at loggerheads over which
of two impossible plans they will put forward so they can be rejected
by the EU. This isn't rearranging deck chairs on the titantic. It is having a full blown row over how the deck chairs should be arranged as the ship sinks.

This
charade could be put out of its misery by parliament telling May that
the UK has to stay in the CU and the EEA. The former might happen,
but the Labour leadership, along perhaps with some
of its MPs (and not just the few Brexiters), still think that they
can negotiate a bespoke version of the Single Market that either
avoids rules on state aid or avoids free movement. There is no reason
why the EU need contemplate this, given that they know MPs will not
approve No Deal. The left or Lexiters can talk all they want about
uniting to guarantee that the EU cannot obstruct a future socialist
government, but the lesson of Greece is that if the EU has power it
will use it.

It
is easy to imagine where these delusions of power come from. After
all, despite what Brexiters say, the UK did have considerable
influence in the EU when it was a member. Ironically both the Single
Market and EU expansion owed a lot to UK pressure. The more
interesting question I think is why these delusions continue when the
reality of the UK’s powerlessness becomes obvious. Political
leaders have had a painful year to learn that in these negotiations
the EU calls the shots.

I
can think of two answers. The first is ideological blindness. This is
obvious in the case of the Brexiters, but I think you can also see it
elsewhere in various ways. But I also think there are specific dynamics created by
the referendum. Leave votes were in part predicated on an illusion of
power: the UK would not be worse off because the EU would be
desperate to accede to our demands. Once a politician agrees to go with the 'will of the people', they find it very hard to go back to
the 52% and say your beliefs were delusions. And no politician wants
to say in public that the UK has to do what the EU says. It is very hard for an elected
politician to confront English nationalism,
a nationalism largely exploited and distorted in my view by a deeply corrupt press.

The
UK is therefore in a trap of its own making. It is obvious what has
to happen in the end: the UK stays in the CU and SM either inside or
outside the EU. But the leadership and perhaps a majority of MPs in
the two main parties either cannot see that yet, or can see it but
dare not take the steps to get us there. If Brexit is to survive
despite always being a fantasy project it has to end with a whimper,
but it could take many wasted years and much economic harm to get to
that point. There is one way out that will spare politicians’
blushes and revitalise the economy, and that is to hold a referendum
on the final deal where the economic costs of the deal are clearly
spelt out.

Monday, 14 May 2018

If you do not watch
Carlos Maza’s short commentaries on the US media you should. Here
is his latest, on why comparisons between the investigations into
Nixon and Trump fall short. The reason, quite simply, is Fox News.
With Nixon most Republican voters were getting their information
straight from one of the established networks. As a result,
Republican politicians were coming under Republican voter pressure to
impeach Nixon when the extent of the cover-up became clear. Today,
Republican voters get aggressive attacks on the investigations into
Trump and his associates, attacks which are completely divorced from
reality. And Republican politicians, reflecting the views of their
base, repeat the attack lines from Fox News.

In the UK we have
our equivalent of Fox News, but because our aggressively partisan
media is the press there is a chance for the broadcast media to
modify its impact. That it did not do so over Brexit because it
failed to call out the lies of the Leave campaign is why the vote
went the way it did. But Brexit was not the first time this happened.
As some of the essays in a new book
show, austerity was also an occasion where the broadcast media
reinforced rather than countered the lies of the right wing press.

Laura Basu and Mike
Berry show how virtual hysteria about the UK budget deficit was
strongest in the right wing press, but as Mike Berry writes:

“Whilst BBC
coverage lacked the strident editorialising seen in the press, it
still operated within a framework which stressed the necessity of
pre-emptive austerity to placate the financial markets.”

Historians will find
this extraordinary. It is standard textbook macroeconomics that tells
you not to try and counteract the deficits that arise when taxes fall
and spending rises as output growth declines in a business cycle:
that is why they are called automatic stabilisers. Keynes taught us
and modern theory confirms you particularly do not do this when
interest rates are stuck at their effective lower bound. It was
natural to expect record deficits because it was a record recession
and because conventional monetary policy was impotent.

So why did the BBC
and other broadcasters largely ignore this point of view, and instead
promoted what I call mediamacro? This is the subject of my own
contribution, and here is a very brief and partial summary

Journalists
typically had no direct contacts with academic macroeconomists, with
just one or two exceptions. The economists you tend to hear in the
broadcast media are City economists, who for various reasons
over-exaggerated the deficit problem.

The IFS do
appear regularly in the broadcast media. But the IFS do not do
macroeconomics, and there is no equivalent of the IFS for
macroeconomics. Initially the IMF supported fiscal stimulus, but
they became spooked by the Eurozone crisis.

The main way
that academic expertise about the macroeconomy was filtered through
to journalists was via the Bank of England. It should have been they
who warned of the danger of austerity at the interest rate lower
bound. However, in a then very hierarchical set-up, its governor
Mervyn King was a strong supporter of austerity.

The message
of probably a majority of academic economists, which was to focus on
the recovery and stop worrying about the deficit in the short term,
ran counter to journalist’s intuition, particularly after a
financial crisis where financial panic had just brought down the
economy.

There is a more conventional radical political economy point of view, which is
set out in another essay by Aeron Davis. That is that the media,
including the broadcast media, has a default position that supports
an essentially neoliberal, financialised order. That position was
disrupted by the financial crisis, but once that crisis had
stabilised the media took the opportunity to return to where it was
comfortable.

I do not think these
two accounts are incompatible, as long as you do not see this
political economy view as some kind of neoliberal conspiracy. Davis
certainly does not see it that way. He describes, for example, why
journalists often depend on City expertise: not because someone tells
them that is what they have to do, but because they need readily
available expertise that they themselves often lack. Try asking most
academic economists to explain the latest retail sales data with
virtually no notice. The fact that the expertise they receive is
often presented as fact when the reason for market moves are
generally unknowable is similar to the media’s attitude to macro
forecasts.

We can make the same
point about the role of central banks. There was no inevitability
that they supported austerity, as the US experience under Ben
Bernanke showed. Bernanke’s view made little difference in a highly
polarised Congress, but I have often wondered whether a Bank of
England warning of the dangers of austerity might have made a
difference to the media’s coverage of austerity in the UK.

I was reminded of
all this by the recent
TUC march. After austerity we had the 2015 election, which I argued
mediamacro won for the Conservatives. They did so by tending to
affirm rather than critique the idea that the economy was ‘strong’,
despite the fact that the data said quite clearly that it was in fact
very weak. Once again we had a huge gulf between what workers and
academic economists were saying and the message journalists were
getting from City economists, and how journalists generally went with the latter. The BBC really needs to hold an inquiry into how they handle economics, similar to their inquiry into
statistics, but I doubt it will happen under this government.

Saturday, 12 May 2018

An argument I have
often heard is why are people talking about getting a softer Brexit
(by staying in the Customs Union (CU) or Single Market (SM) for
example) when what we should be doing is staying in the EU. There is
a more extreme version of this which says that attempts to get a soft
Brexit are dangerous, because they make the prospect of remaining in
the EU less likely. I will call this more extreme position Remain
fundamentalism.

I want to argue
against Remain fundamentalism by imagining a soft Brexit that
involved the UK staying in a comprehensive Customs Union with the EU
and staying in the EEA. (For an excellent discussion of what the EEA
is and is not, see Ian Dunt here,
here
and here
- in that order.) [1] That is what the current UK withdrawal bill
specifies as amended by the Lords, so let me call this the Lords’
Brexit. Compare this to the only hardish Brexit deal that can be done
(assuming, as I think is reasonable, that parliament would never pass
No Deal), which is something close to what John Springford and Sam
Lowe have called
the Jersey option: staying in the CU and the SM for goods but not
services, perhaps allowing some UK flexibility on freedom of movement.

We have no idea
whether the EU would accept either option, because the UK government
has been wasting its time (which given they are supposed to be
running the country on our behalf is also our time) trying to choose
between fantastical solutions to the Irish border problem that the EU
will not accept. But for the sake of argument suppose that May ignores
her Brexiters, and perhaps with parliament’s help chooses something
like the Jersey option and that the EU agrees to it, or instead that May has to go with the Lords’ Brexit and the EU (and EFTA) agree to
it.

The Remain
fundamentalist argument is that because the Jersey option does more
economic damage to the UK than the Lords option (because the EU has a
comparative advantage in exporting services, and immigration from the
EU is beneficial to the UK), it is more likely that parliament would
grant a referendum on it and that people would reject that deal in
favour of staying in the EU. I actually think the opposite is the
case, We are much more likely to see parliament grant a referendum if
we go for the Lords’ Brexit, and that people would reject the
Lords’ Brexit in favour of staying in.

The case for a
referendum on the final deal is much more clear cut if the deal is
the Lords’ Brexit, because the Lords’ Brexit has virtually no
advantages compared to EU membership and a clear disadvantage. In
practice being in the EEA would mean accepting rules adopted by the
EU with no say on those rules. In short, we gain nothing
by having no say on the rules we have to obey. I cannot imagine any
politician being able to get people to vote for the little bit of
wriggle room and influence being in the EEA gives you compared to the
having a real seat at the table.

In contrast, with
the Jersey option things are much more complex. There will be
perceived advantages of this option compared to staying in, such as
greater control over immigration. You can be sure that the more Mrs.
May can fudge the agreement such that she can pretend these
advantages are there even when they are not, she will.

Now add in a
powerful group of Brexiters. They would angry that they did not get
the hard Brexit they want, but in the Jersey option they would still
see hope in ambiguity. More importantly, with the Jersey option there
would be plenty of meat for this group to work on, including
immigration of course. But with the Lords’ Brexit it is hard to
argue a strong case for why this is preferable to be in the EU, even
if you are a Brexiter politician or newspaper.

I would be the first
to admit that these arguments are not clear cut. But the Remain
fundamentalist position only makes sense if you can be sure that a
harder Brexit makes a referendum more likely. To me, at least, it is
not obvious that it does. The more you can eliminate the economically
damaging but superficially attractive aspects of Brexit, the more
chance people have to see that the whole thing is a complete waste of
time.

[1] There are a lot
of differences between being part of the EEA and what is called BINO:
the UK being in the Single Market and Customs Union and everything
else to do with the EU except being absent from its political
structures. I am assuming that there would be no problem being in the
EEA and a CU, that agreements with the EU would also be made on
agriculture and fisheries that would at least allow a soft Irish
border, that the EU and EFTA would allow all this and so on.

Thursday, 10 May 2018

Or maybe the middle
ages, but certainly not anything more recent than the 1920s. Keynes
advocated using fiscal expansion in what he called a liquidity trap
in the 1930s. Nowadays we use a different terminology, and talk about
the need for fiscal expansion when nominal interest rates are stuck
at the Zero Lower Bound or Effective Lower Bound. (I slightly prefer
the latter terminology because it is up to central banks to decide at
what point reducing nominal interest rates further would be risky or
counterproductive.) The logic is the same today as it was in the
1930s. When monetary policy loses its reliable and effective
instrument to manage the economy, you need to bring in the next best
reliable and effective instrument: fiscal policy.

The Eurozone as a
whole is currently at the effective lower bound. Rates are just below zero
and the ECB is creating money for large scale purchases of assets: a
monetary policy instrument whose impact is much more uncertain than
interest rate changes or fiscal policy changes (but certainly better
than nothing). The reason monetary policy is at maximum stimulus
setting is that Eurozone core inflation seems stuck at 1% or below.
Time, clearly, for fiscal policy to start lending a hand with some
fiscal stimulus.

Yet the goal
of the new German Finance minister, from the supposedly left wing
Social Democrats, is to achieve a budget surplus of 1%. To achieve
that he is cutting
public investment from 37.9 billion euros in the coming year to 33.5
billion euros by 2020. Yet German infrastructure, once world
renowned, is falling
apart. Its broadband connectivity could be greatly
improved.

The macroeconomic
case for a more expansionary German fiscal policy is overwhelming.
Germany has a current account surplus of around 8% of GDP. There are
some structural reasons why you might expect some current account
surplus in Germany, but the IMF estimates that these structural
factors account for less than half of the current surplus. It
estimates
that a third of the excess surplus is a result of an overly tight
fiscal policy. As Guntram Wolff points
out, the main counterpart to the surplus is saving by the corporate
sector. Perhaps more public investment might encourage additional
private investment.

But this is not
another article about how Germany needs to expand to help the rest of
the Eurozone. The problem, as Matthew Klein points
out, is that the whole of the Eurozone is doing the same. In the area
as a whole, the fiscal position is as tight as it was in the
pre-crisis boom. Unemployment in the Eurozone is still too high. And
the reason fiscal policy is too tight is that key Eurozone
policymakers think that is the right thing to do. “The right
deficit is zero” says
the French finance minister. He goes on: “ Since France is not in
an economic crisis, we need to have a balanced budget, so that we can
afford a deficit in tougher times.” You hear the same in Germany:
the economy is booming so we must have budget surpluses.

A booming economy is
not one that is growing fast, but is one where the level of output
and employment is above the level compatible with staying at target
inflation. Measures of the output gap are only estimates of what that
level is: underlying inflation is the ultimate guide. Core inflation is
well below target right now, which is why interest rates are at their
effective lower bound. This is why the actions and rhetoric of most
European (and UK) finance ministers are simply wrong.

You would think that
causing a second recession after the one following the GFC would have
been a wake up call for European finance ministers to learn some
macroeconomics. (Yes, I know that the ECB raising rates in 2011 did
not help, but I expect most macro models will tell you the collective
fiscal contraction did most of the harm.) Yet what little learning
there has been is not to make huge mistakes but only large ones: we should balance the
budget when there is no crisis.

This is not a
dispute between left and right as it is now in the UK, but a problem
with the policy consensus in Europe. What we are seeing I suspect is
a potent combination of two forces: a German obsession with balancing
the budget which has it roots in currently dominant
ordoliberal/neoliberal ideology, and Keynes famous
practical men: advisers who learnt what economics they have in an era
of the great moderation where the worst economic problem we had was
relatively benign deficit bias. Fighting the last war and all that.

Monday, 7 May 2018

Two pieces of
recent Brexit news are that a majority of the ‘war cabinet’
outvoted
May on the choice between two unworkable, and therefore unacceptable
to the EU, proposals to keep the Irish border infrastructure free,
and Labour plans not to support a Lords amendment to keep the UK in
the Single Market (SM). I want to consider each in turn.

The Brexiters,
and their followers who just want to be PM and are signaling to party
members, have put their collective foot down over the Irish border. This could imply that May
will have to finally break with the Brexiters. But first she will try to do what she has done
since negotiations began, which is to find a fudge that is good
enough for the EU and which just keeps the Brexiters on board. I have
no idea if such a fudge is possible, but suppose she manages to
achieve one and prevents a revolt from the rebels in her party, so we
leave in 2019 as planned.

If that happens, we
are in danger of having perpetual Brexit. A final deal cannot be
fudged, and the reality is that no deal is possible that will keep
the Brexiters happy and be acceptable to the EU. The stumbling block
is the Irish border: the EU will not negotiate an FTA that requires a
hard border, and the Brexiters will not accept either the UK staying
in the Customs Union (CU) and SM for goods, or a border in the Irish
Sea. A crunch point could come at the end of 2020, but to avoid that
May will plead for an extension which the EU may grant. And so it
will go on: perpetual Brexit.

In a strange way, it
is in May’s interest for this to happen. No one thought she would
last for more than a few years after the 2017 fiasco, but Brexit
keeps her in place. The majority of the parliamentary party dare not
allow her to go because they will get a Brexiter in her place, given
that it is members who ultimately decide. Furthermore, the closer we
get to 2022 the less the party will want a bust up over how
transition ends, so she fights another election.

If she wins the 2022
election would that finally give her the confidence to do a deal with
the EU and ignore the protests from the Brexiters? Two factors
suggest not. First, the new intake of Conservative MPs could
mean that she would lose a vote of no confidence over Brexit. Second
the right wing press, with the election out of the way, might not
hesitate to call betrayal if she agrees any kind of deal with the EU.
Both the press and Brexiters, knowing that BINO was not at all what they had
in mind, would be looking to break off negotiations with the EU and
go for No Deal. If she gets an outright majority a deal that puts a
border in the Irish Sea becomes possible, but I doubt she will take
it or the party will allow it.

The underlying logic
is simple. For Brexiters, transition is only bearable because they
see it as a stepping stone to a hard Brexit. The EU will not
negotiate an FTA without a border in the Irish Sea and no hard border
in Ireland. These are irreconcilable positions, a point which the
media have just not taken on board. So if May does fudge her way to
agreement on the withdrawal bill, it means perpetual Brexit
negotiations. Transition, or Brexit in Name Only (BINO), may not
sound too bad, but it means never ending uncertainty because business
cannot rely on this arrangement lasting decades.

One way to stop
fudge is to force the government to break with the Brexiters. One of
the difficulties Tory rebels will always have is that it is difficult
to vote against a final deal that is fudge, because just as with the
original Leave vote fudge can mean almost anything the fudgers want
it to mean to get votes. As the polls I discussed here
show, it is only by talking about something concrete that voters say
wait a minute that was not my Brexit. Which is why votes on Lords
amendments to the UK’s withdrawal bill to stay in a CU and (tomorrow) the SM via the EEA can be so useful.
Conservative rebels think
that with Labour’s support they could win both votes in the Commons. But while Corbyn has been persuaded to back the rebels on a
CU, he appears unwilling to do the same on the SM.

I have talked a lot
about Labour’s triangulation strategy. That strategy works best
when all those who want something that is softer than Theresa May’s
Brexit think Labour in reality wants what they want, whatever Labour
might actually say. In a purely two party system with rational voters
Labour can get away with disclosing that they really only want a
slightly softer Brexit than May, because Remainers have nowhere else
to go. But reality isn’t like that in two important respects:
Remainers can vote for the LibDems or Greens (many thought the Greens
would be hammered in the local elections - they gained seats), or they can not vote at all.

Until now, I think
we have evidence that Labour has largely succeeded in being all
things to all those wanting something softer than May, including
those who want to Remain. But as crunch time comes closer this is
going to be difficult to sustain. So what does whipping your Lords
against voting for the EEA option disclose: that, as long as May is
in charge, you are content to see the UK leave the Single market. [1]
That might firm your support among some Labour leavers, but it pisses
off all Remain supporters and those Leavers who want to stay in the
SM.

I think this is a
mistake, although I am happy to have experts tell me otherwise. I
think it is a mistake because you will lose more votes from
disillusioned Remainers than you will gain from reassured Leavers,
even when you allow for where each are in parliamentary seats. I keep
being told that this is the Tories Brexit, but the moment Labour
enable it they become complicit. If car factories in the North East
go because we leave the SM, they cannot claim this is not our fault
because we abstained on a vote that could have prevented this. Voting to stay in the SM indicates economic competence, which always matters in elections and particularly matters for Labour.

It also seems like a
political mistake beyond votes and reputation. The theory seems to be that a vote to
stay in the CU, which the Lords did pass with Labour’s help, will
do all the required damage to May. But there are those who argue that
such a vote can help her, by giving her an excuse to ignore the
Brexiters and do a deal. The Brexiters will be furious, but what can
they do at the end of the day, as May can defeat any vote of
confidence because Conservative Remainers do not want a leadership
election. Wth UKIP dead, they have nowhere to go. May, free of the
Brexiters, might even achieve a final deal by 2020 (although crossing
her own red lines to do so), and fight the subsequent election as the Prime
Minister who got Brexit done.

Which is a long
winded way of saying that a vote on the CU may not be enough. If
Labour does kill a vote on the SM, they lose another chance to cause problems for May, and this time over an issue she really does not want to
lose. Put simply by doing this Labour may be passing up a chance to
do great, and possibly terminal, damage to May’s leadership. So the
Lords decision looks bad in terms of votes, and bad in terms of
politics.

Perhaps most
importantly it is also bad in principle. Staying in the SM as well as
the CU is the right thing to do if someone else is doing the
negotiation. We need to stay in the SM for goods to avoid a hard
border in Ireland, and therefore to get a deal with the EU. But the
UK is really strong in exporting services, so leaving the Single
Market for services is just another act of self harm. I have always
been worried, since my time on Labour’s EAC, that the leadership
underestimated the damage leaving the SM could do. And if truth be
told the Leave vote was won on false pretenses, which means few voted
Leave thinking they would be poorer. Which is why there is no mandate
to leave the Single Market.

To those who say
that Labour have to appease those who voted Leave in our traditional
heartlands I would say this. Past Labour leaderships have for many
years neglected their traditional heartlands, partly in efforts to
appeal to the middle class and partly by embracing neoliberal ideas.
They have subsequently tried to win back their traditional base through
appeasement over immigration.
It did not work then, and it will not work now with Brexit. You win Leavers back to Labour by focusing on the
economic issues that matter to them, and not by votes in the House of
Lords.

Appeasement over Brexit is a mistake because Labour alienates its base, just as happened with austerity and immigration. It is time Labour stood up for its principles, which include better public services. Leaving the Single market
will mean less money for public services [2], which is why 87% of Labour party members want to stay in the
Single Market. Leaving the Single Market is a policy that should be opposed, not enabled. Postscript: The Lords amendment was passed by 247 votes to 218. 83 Labour and 17 Conservative peers defied their party and voted for the amendment. Only 3 Labour peers voted against the amendment. Jeremy Corbyn now has to decide whether he regards leaving the Single Market as more important than inflicting what could be a mortal blow to Theresa May.

[1] We need to
dispense with one red herring here. Abstaining does not mean
neutrality. If the Lords amendment succeeds it puts the issue on the
table, and Conservative rebels think they have the vote to support it
with Labour’s support in the Commons. If it fails, it is less
likely to be resurrected in the Commons. To say that the EEA option is not Labour's preferred option is irrelevant because they are not in charge and they have limited influence on the outcome. This vote is one point of influence, and they have gone for the worse option.

[2] Whether they
intended it or not, the writings of MMT seem to have convinced many people responding to me on
twitter that lower UK GDP has no implications for the level of UK
public services. Lower GDP, caused by lower labour productivity because Brexit diminishes UK trade, reduces the resources available to go to
private and public consumption. The only way you can avoid less
resources going to public consumption is to cut those going to the
private sector. Nothing in that statement contradicts or can be
changed by anything in MMT theory. If resources are underutilised they should be fully utilised, whether we are in or out of the EU. This is not about utilisation of resources.